According to the absorption approach (B = Y - A),currency devaluation improves a nation's trade balance if:
A) Y increases and A increases
B) Y decreases and A decreases
C) Y increases and/or A decreases
D) Y decreases and/or A increases

Question

Quizplus · Accepted Answer

According to the absorption approach, trade balance (B) equals domestic output (Y) minus absorption (A). If depreciation of currency occurs, domestic output increases as exports become cheaper and there is an increase in demand for domestically produced goods. However, the absorption component may decrease as import prices rise and consumers reduce their imports, leading to a decrease in demand for foreign goods. Therefore, the trade balance (B) improves if Y increases and/or A decreases, which is option C.

According to the Absorption Approach (B = Y - A),currency